Heavy FX demand CBN in tight policy angle on easing market pressures

By Charles Abuede

Araft of recent events in Nigeria’s foreign exchange landscape has exposed its fragile state, and that significant imbalance still exists as illiquidity and scarcity continue to exert relentless pressure on the country’s currency markets with the latest developments leading to Nigeria’s deposit money banks limiting FX spending by their customers by over 40 per cent.

Similarly, over the past week, the Central Bank of Nigeria (CBN), in an effort to increase foreign exchange liquidity in the country, directed all deposit money banks across the country to submit the names, addresses and Bank Verification Numbers (BVN) of exporters that have defaulted in repatriating their exports proceeds, for further action.

The directive emerged barely 24 hours after the apex bank ordered the abolition of third-party Form M payment in favour of the ultimate supplier of the product or service with immediate effect, and asking dealers to desist from opening Form M whose payments are routed through a buying company or agent or any other third parties.

Analysts conversant with the goings on in the market who Business A.M. contacted to speak on the development explained that a likely outcome from that decision by the apex bank would be a reduction in the level of risk involved in international trade payments, as well as aiding the facilitation of trade.

A research analyst in one of the investment houses told Business A.M. that he finds the development welcoming and laudable, as the CBN seeks measures to sanitize the foreign exchange market by working to get rid of speculative middlemen.

But he was also quick to offer a caveat when he said: “The placement of FX spending limit on clients (especially exporters) by DMBs will further dampen the prospect of crawling out of the economic crisis Nigeria is currently stuck in, while also deepening external vulnerabilities”.

To Uche Uwaleke, a professor of capital markets at the Nasarawa State University, and a fellow of the Institute of Chartered Accountants of Nigeria (ICAN), the new directive by the apex bank will help mitigate pressures in the foreign exchange market.

“The directive by the CBN to exporters to ensure that all export proceeds are repatriated should boost forex supply if complied with. The real challenge now is how to ensure that these laudable measures are not circumvented thereby defeating the purpose for which they were put in place.

“So, requiring banks to raise Form M only in favour of a supplier as opposed to routing payments for imports through agents will go a long way in reducing the pressure in the forex market especially if the product price verification mechanism the CBN is putting in place is effectively implemented. Since inflated prices of imports are ultimately passed on to the consumer, I expect that this measure will also reduce import inflation,” Uwaleke asserted.

Demand for FX not as high as being bandied around 

In a related development last Friday, the CBN through a circular revealed its plans to resume the sale of foreign exchange to operators at the Bureau De Change market by September 7, 2020, coming on the back of the announcement of resumption of international flights in the country. The apex bank further announced that the purchase of forex by BDCs shall be done on Mondays and Wednesdays of the week, adding that deposit money banks shall also continue the sales of foreign currencies for travel-related invisible transactions to both customers and non-customers.

The above scenarios have left a crucial question to be answered; some analysts have been quick to say. Specifically, they ask: What becomes of the local currency in the exchange rate market in relation to the high demand for FX? Especially in view of the fact that the spread between the parallel and the Importers’ & Exporters’ market rates, which currently stands at over 20 per cent, further buttresses the imbalances that still exists in the demand and supply forex conundrum in Nigeria.

“We need not look far as to the actual estimate of current forex demand. The exchange rate movement at the different segment of the market, especially the parallel market, gives a clue that the demand for forex in Nigeria is high. Some estimates and reports put the forex demand at over $1 billion. This is further exacerbated by supply-side shocks, including emerging trade imbalances, weakened output growth, subdued global energy outlook, amongst others.

“The imbalances, in my view, will remain as long as structural issues are left unresolved and the CBN’s continued reluctance to do away with the multiple exchange rate regimes,” a research analyst told Business A.M.

Bismarck Rewane, CEO Financial Derivative Company, in a monitored television interview, added his own twist to the development when he said: “The demand for FX, however, is being driven by emotion, fears and anxiety created by rationing of FX. Rationing does not help. Rationing gives the perception that there is a shortage somewhere. The economists’ hypothesis today is that because the demand for FX today will reduce, the airlines are going to start flying by September, and we won’t be flying with the same load factors.

“The demand for imported products is also going to reduce because we do not have the same purchasing power that we had in the past.  So because of that reduced demand and reduced supply, the equilibrium exchange rate is not going to be where it is, but much lower and that stability and stopping the rationing at the same time will bring the stability to the market and then, and that will be the beginning of the recovery,” Rewane said.

Uwaleke, in a related view, said: “The precarious supply situation is exacerbated by spurious demand for forex, activities of speculators and sharp practices. So, the CBN is faced with a double whammy sort of situation. Part of the sharp practices which exert pressure in the forex market is the over-invoicing of products imported into the country due to the activities of middlemen.”

Demand, supply shock left vacuum amidst pressures

The demand and supply shock in the market has created an adjustment, as well as some pressure in the markets with the emerging trade imbalances, weakened growth of output, occasioned by the pandemic, rising inflation, amongst others. So, on what grounds can we say unifying the exchange rate and its parity maintenance and alignment will boost its competitiveness against our trading partners?

Uwaleke, the professor of capital markets, who is also a financial economist, further asserts that “It goes without saying that the economy is going through challenging times as a result of the decline in crude oil price made worse by COVID’19.To provide a context for the CBN’s recent measures regarding forex, it is pertinent to realize that the Q2 negative growth in real GDP, high inflation rate, increase in inflation and downturn in virtually all macro indicators are all partly attributed to the scarcity of forex, following the collapse in oil price since oil revenue accounts for over 90% of our forex receipts. Since inflated prices of imports are ultimately passed on to the consumer, I expect that this measure will also reduce imported inflation.”

For Rewane, “The exchange rates have not been unified. There are some convergences taking place. The unification is when you have a single rate. In other words, the demand for foreign currency in Nigeria today is not what it was in normal times. But looking at the supply side, the average price of oil in the second quarter was about $36-$37 a barrel, even though, our benchmark was $28 a barrel.

“In 2016, there was a supply disruption because oil prices fell, the oil market was in shock and demand remained constant. However, the difference between now and then is that now we have the demand and supply shock. Today, the current market price is about $44-$45 a barrel, much higher than what it was in the second quarter,” he said.

Meanwhile, the Central Bank, in collaboration with the Bankers’ Committee, issued a threat of heavy sanctions against exporters who failed to repatriate foreign exchange proceeds from their international business.

The CBN stressed that its Foreign Exchange Manual provided that all exporters should repatriate export proceeds back to the country to support the local currency and boost the economy.

Uwaleke noted that the CBN should be ready to apply sanctions to serve as a deterrent. “I recall that the rule for export proceeds repatriation has been in the CBN books before now but would appear to be observed in the breach by some exporters. This is the time for the CBN to wield the big stick, not mere slap on the wrist, on any DMB that flouts the Form M order regarding third parties.”